governance, political economy, institutional development and economic regulation

Posts tagged ‘cooperative federalism’

Citizens expect governments to intervene when the markets fail. The market for Diplomacy failed last month at Doklam. If the Chinese Army is to be stopped well north of the tri-junction between India, Bhutan and Tibet/China, then only the Indian forces, funded by taxes, can do the job. This is a satisfactory arrangement for all Indian and Bhutanese citizens, who otherwise may be hard-pressed to secure their territory.

When State failure fails to fix the underlying market failure

But not all government actions have an obvious rationale. Demonetisation was unleashed in November 2016 to end black money. Few believe that this objective has been achieved. Black money is not an outcome of market failure. It is an outcome of governmental failure to tax income effectively; control corruption or control crime. Poor governance only encourages the generation of black money, which then requires another intervention to root out black money. Economist Shanta Devarajan of the World Bank, in New Delhi last week for the NCAER annual India Policy Forum <http://www.ncaer.org/event_details.php?EID=184> believes such iterative interventions are ineffective in improving the quality of governance, and can reduce the legitimacy of governments. Far better instead to rethink how to deal with the underlying market failure – in this case the “market” for political power.

Poor tax administration

So why do governments tax ineffectively? Most commonly, multiple objectives in the tax policy are to blame. The sale of loose groundnuts — the ordinary person’s food — may be tax-free but packed groundnuts, even if unprocessed, are taxed. This creates a five per cent tax differential for arbitrage between the two categories, which are difficult to administer separately. A single rate of tax levied on a non-evadable tax base is the most effective. But consider that this would be akin to the colonial “poll or head tax” — levied on each person uniformly. Effective, but terribly inequitable.

Admittedly, mechanisms like transfer of a basic income to the poor can neutralise such an inequity. But transfer of a similar amount of cash, to each poor person, itself creates huge inequities, even among the 40 per cent population vulnerable to poverty. Transferring differential amounts, depending on need, attracts the same inefficiencies as trying to administer progressive tax rates fairly.

The big 2Cs – Corruption and Crime

Why is corruption or crime so hard to control in India? If citizens feel that political power can be acquired by subverting the “popular” vote, it reduces their faith in the power of their vote. It also delegitimises the government and undermines its ability to rule, in the eyes of those who voted against the government. Bihar faced this conundrum for two decades.

It does not help that, in India, governments can be formed even with a minority of the total votes cast in elections, so long as each elected member of the ruling party gets more votes than the next candidate. This first-past-the-post system fractionalises politics. It encourages parties to form coalition governments, which are unable to discipline errant behaviour by their constituents. This “coalition dharma” fosters crime and corruption.

Are laws aligned with context?

An alternative explanation for pervasive crime or corruption is that laws are out of sync with local customs. And not enough has been done to change social behaviour beyond legislating transformative rights and duties. Ending open defecation — a prime driver to reduce the vulnerability of women to crime — is one such example. The benefits from ending open defecation are dependent on collective action. One reason why we did not do more earlier could be that the political incentives are perverse. They favour exaggerating, rather than bridging, the social cleavages of caste and religion, which inhibit collective, progressive decision making.

Feudal governance patterns breed poor accountability

Low public accountability and lackadaisical collective action can also be traced to the continuation of feudal traditions of governance and poorly distributed income growth. Richer citizens are more resilient to State encroachment of their rights and less dependent on State largesse. Luckily, over the past three decades, we have become less poor, better educated and more aware of our rights versus the State.

But the extent of inequality remains significant as does the infrastructure deficit across rich and poor areas. The privileged crust is thinner than a hand-tossed Neapolitan pizza — possibly just 10 per cent of the population. The rest seethe in forlorn frustration. Can we get away from this low-level equilibrium? Yes, we can by fixing the market for political power.

End the perverse incentives in our political architecture

Our political architecture is riddled with perverse incentives which constrain the will to reform. Here are four changes which are overdue – deepening decentralisation; enhancing state government autonomy; enhancing the representativeness of the legislatures and regulating political parties better.

First, bridge the trust deficit and distance between citizens and the State. Empower state governments versus the Union government and local government versus state governments. Hopefully, the 15th Finance Commission will carry forward the trend of forcing the Centre to devolve functions and Central taxes to states and directly to local governments based on performance criteria.

Second, cut the colonial fat; abolish the titular but unedifying position of state governors. These are unelected nominees of the Union government exercising oversight over elected state governments. Transfer this role to the President, who is elected. This will level the playing field between states and the Centre versus the presidency.

Third, make Parliament and state Assemblies more representative. Sharply reduce the size of constituencies. Only directly-elected members should be eligible to become Prime Minister or chief minister. A candidate should be able to contest an election for only one seat at a time. The winner must secure a simple majority of the available votes and two-thirds of the votes cast. Municipalities must be headed by elected mayors.

Fourth, the functioning and finances of recognised political parties must be made transparent. Inner-party elections must conform to common but effective guidelines. The Election Commission must be empowered to determine constituency boundaries and diversified beyond the administration, to include citizen representatives and the judiciary with the chief election commissioner chosen specifically.

Use the GST process of risk-free consensual decision making

GST became a reality as a process of cooperative federalism was followed led by the finance minister. Reforming the market for political power could benefit from a similar approach.

Adapted from the author’s article in The Asian Age, July 19, 2017 http://www.asianage.com/opinion/columnists/190717/power-structure-needs-reform.html

The government is stacking up its “reform credentials”. The long elusive Goods and Services Tax is now part of the constitutional scheme for taxes. This has been followed up with a double-punch by putting to rest the colonial tradition of a separate railway budget.

Bye bye separate rail budget

Rail budget reform was well received by the opposition, including the Congress and the Biju Janata Dal. In contrast Mr. Nitesh Kumar’s criticism that this will make the railways less autonomous appears to be reflexive dissent with an eye to the potential media coverage. Didi’s Trinamool Congress was similarly truculent. But Mr. Dinesh Trivedi, a previous minister of railways from the TMC, dulled the edge of the attack by not opposing the move.

The net budget support for the railways is just Rs 5,000 crore or one quarter of one percent of the annual budget. But having to get its budget passed, independently by parliament – a colonial tradition when the railways were a major public asset – exposes the railway minister to the inevitable “populist” demands to steer the budget through. This additional burden will now be borne by the finance minister – the redoubtable Mr. Arun Jaitley – whose reform credentials are growing by the day.

There is some concern that the granular information in the railways budget may no longer be available. But the concern is misplaced. The railways are reportedly implementing commercial accounting standards. Mr. Suresh Prabhu – the energetic minister for railways – could consider tabling an advance supplement based on the results for the first three quarters of the fiscal year- April to December, with the Budget documents for next fiscal followed up by yearly outcomes in the annual report tabled in parliament.

But let’s not kid ourselves. Well begun is only half done. Process reform, like the new rail budget mechanism, whilst necessary, is low hanging fruit. To show results process reform has to induce management and operational changes. In the age of “Big Data” access is not the constraint. It is using data to change behavior that matters.

1991 reforms had a narrow, central government focus

Some change in track is also necessary. Since 1991, the economic reforms have primarily focused on the sunrise sectors – industry, commerce and finance. Tech grew under the governments radar because it remains export oriented. Inevitably urban boats have risen significantly. Two third of jobs are generated in cities, which explains the continuing in-migration from rural areas.

But connectivity and business as key drivers of growth blur the urban rural divide. Business is more concerned about seamless supply chain networks as the critical cartographic feature, not administrative borders. Similarly, markets do not end at the city limits, particularly if mass e-tailing is to grow.

SMART cities and dumb villages; broken supply chains.

We cannot hope that cities will be the sole engine of growth. There were nearly 19,000 villages, with a population of more than 5000 persons each and nearly 4000 villages, each with more than 10,000 persons, in 2001. Merely reclassifying these villages as urban spaces could increase the statistical level of urbanization from 31 to 50 percent of the total population. Estimates of the share of urban population in 2030 would then increase to 70 percent. But even the remaining 30% would constitute 450 million people left behind in villages. A significant market and a sizable vote bank.

The government has been diligent in rolling out new schemes to pull rural dwellers out of poverty. Financial inclusion via the Jan Dhan Yojna; economic and social security via subsidized insurance policies and the focus on public health and publicly financed housing are all positive moves. But most of these initiatives are still at the process reform stage. Tangible results – more disposable money in the hands of the poor – is still some time off. It is unclear, for example how many of the 200 million bank accounts opened under JAM are operational on a substantive manner. Enlarging the direct benefits transfer will make financial inclusion real. But last mile implementation is a slow process.

Unleash a reforms Tsunami to lift “rural boats” as well

Rural India : Seemingly placid but very uncertain.

Glimmers of hope persist. The Arvind Subramanian Report on price support for Pulses is a signal that government is shifting attention from urban centric reform areas, where progress is ongoing, to the neglected but high potential value addition sectors – agriculture, rural development and water. Agriculture needs to be brought out of the shadows where it has been consigned since the Green Revolution in the 1970s.

Visibility in rural and local governance is the first step

Baiga women at a meeting – listening passively to top down wisdom.

If the government is to lead, it first has to increase its presence in rural areas by decentralizing personnel, functions and finance to the sub-district level. Currently, on average, only one third of state government jobs are in local governments. The majority are centralized in the state capital and its deconcentrated offices, like the District Offices of various departments. This inter-se allocation of personnel needs to be reversed and officers reallocated closer to the people. This implies starting a conversation with state governments.

Mr. Piyush Goyal, the effervescent minister for power, coal and renewable energy recently successfully concluded just such a conversation around restructuring DISCOM debt. This model of cooperative federalism can be replicated for personnel reallocation – targeted central funds for measurable actions.

A second conversation also needs to be started for levying Income Tax on agriculture. The tortuous but eventually successful negotiations around GST provide the replicable model for this thorny issue. States may be happy to let the central government impose the tax and share the proceeds- for them a windfall gain with no political downside..

End untargeted agriculture subsidies or tax agricultural income.

Use NITI Aayog strategically

As in everything else, leadership counts. The Prime Minister should consider shifting the attention of his “A” policy team – NITI Ayog – to agriculture, irrigation, rural development and social protection. Currently it seems flooded with all manner of residual work. It could usefully focus on delivering tangible, measurable outcomes from its two key task forces on agriculture and poverty alleviation set up way back in March 2015.

Recommending which PSUs to sell; planning new tourist islands and ensuring 50 gold medals in the next Olympics, can be done elsewhere just as well. Surely creating jobs in rural areas and putting more income in the hands of the poor rank higher in the priority list. There is not enough bandwidth to run all races simultaneously.

Like this:

97.5% of Delhi residents live in urban areas, many in slums. All 17 million of them live within an area of 1500 square kilometers. Travelling from end to end, despite the horrendous traffic, takes just two hours on average. There are five Municipalities (including the Delhi Cantonment Board) to look after their comforts. In addition, the Union Government itself directly manages Policing, Jails, Urban Development, Water Supply and the Metro Rail-which is fast becoming the life-line of the city. More than 75% of the available beds are in health facilities owned and managed either by the Municipalities, Union Government or non-state and private care-givers. It is not clear what value the State Government adds.

We do know however that the Delhi Government spent around 2.5% of its revenue expenditure or US$ 68 million (Rs. 1500 per household) in 2013-14, just on feeding its top heavy administrative architecture– the Lt. Governor, Legislature, Council of Ministers, Secretariat administration, District Administration and financing of elections, none of which can be directly traced to tangible outcomes which benefit citizens. This does not include its expenditure on useful things like jails, police, the judiciary, social sector programs, infrastructure, economic empowerment and some less useful things like spending 4.6% of its revenue budget (US$ 179 million) as subsidy on the supply of electricity to its pampered residents, who buy power at between 4 to 10 cents per kWh.

Delhi became a State Government in 1992. In the two decades since, the government has precious little to show for its efforts beyond a spanking new Secretariat building, stadia, flyovers and roads courtesy the Asian games earlier and more recently, the scam ridden Commonwealth Games. The State Government sits awkwardly between the Union Government, which quite naturally is loath to give up hands-on control and the Municipalities, which remain marginalized. More fundamentally, loading Delhi citizens with three levels of government is just more “babugiri” (bureaucratize) than an average citizen can handle. It is also an extremely wasteful way to govern a city.

Prime Minister Modi’s pet theme is “co-operative federalism”. But federalism must not stop at the level of governments alone. True federalism is the empowerment of local, grass roots, direct democracy where citizens play an active part in governance, especially in a relatively homogenous and rich city-per capita income in Delhi is the highest in India.

Currently the pipe, through which political power and benefits flow from the top to the citizen at the bottom is too leaky. Union Ministers and their babus; MPs, MLAs, Delhi Government Ministers and their babus and Municipal Corporators and their babus all tap into it, leaving very little to trickle down.

PM Modi would do well to articulate the “co-operative federalism” vision as a sharing of prosperity. As a part of this sharing, he should initiate a dialogue with state governments to let loose the Big Five Metros of Delhi, Mumbai, Kolkata, Chennai and Bangalore comprising 6% of India’s population from the “drag” of the underlying state level administration. They must be set free to chart their course independently under the Mayoral system like London or New York.

Urbanisation in India could conform to an adaptation of the “flying geese” model of industrialization in East Asia propounded in the 1960s by a Japanese scholar-Kaname Akamatsu. As a city matures into a metro, it must graduate out of direct state government management and support, which should divert its energies to less developed cities and areas. The logic of cities, particularly megapolises, is that their size and scale makes them supremely viable; generates “agglomeration economies” which is loosely similar to the concept of “network efficiencies”; creates well-paying jobs; provides better facilities for citizens and encourages a plural, meritocratic and modern society.

McKinsey estimates that the Big Five Metros in India together contribute at least 35% of the national GDP. Their share in high value jobs would be even higher. More importantly, the World Bank assesses that better management, infrastructure and facilities in Metros has a significant multiplier/spill-over effect, catalyzing rapid growth in a 300 km radius around each city. Recent data indicates that population growth in the Metros is slower than in the adjacent intermediate cities. Migrants vote with their feet in search for jobs. Whilst cities have significant agglomeration benefits these tend to peter out by the time they become Metros. Rent and wages increase responding to scarcity of land and labour. Land intensive and sunset industries tend to get pushed out. More importantly the returns to realty development lie in turning hitherto peri-urban areas into cities. This is another reason why the “ripple effect” of freeing Metros could be politically attractive for the political elite in state governments.

This means that whilst State Governments would lose direct management control over and revenue from the Metros, they would gain from the additional revenues generated from economic growth and jobs beyond the Metros. Managing large cities is best done by stakeholders who have a direct and permanent interest in the city. These are usually commercial interests who have a locational advantage in being there and home owners. Municipal management allows both groups to be dominant in decision making, via their tax contributions, in a more direct way than is possible under fuzzy state government control.

The fiscal devolution formula determined every five years by the Finance Commission is weighted in favour of poorer states. By hiving-off rich cities from their budgets and their higher levels of development from their score cards, state governments could lower there development ratings and hence benefit through a higher per capita devolution of central finances. The Finance Commission is also veering towards incentivizing states which help themselves by raising incremental revenues and improving performance. This means that states which lower their base level development benchmarks strategically by hiving-off developed cities, would find it easier to earn incentives. All this “gaming” could further dilute the pangs of separation.

How is this proposal likely to pan out politically? The BJP and its allies, like the Shiv Sena, with their strong urban, voter base, are likely to benefit from autonomous Metros. Regional parties, where there is a strong bi-polar power distribution today, as in Tamil Nadu, may also see some value in potentially avoiding the “winner takes all” default option today. In West Bengal, hiving off Kolkata may appeal to all parties; the CPM, with its rural base, shouldn’t care; nor would the Trinamool, since they seem to be default successors to a dormant Congress. In Karnataka and Delhi, Metro separation can give impetus to “disruptive innovators” like the AAP and other clones, possibly led by the IT kings of Bangalore, which seek to build an alternative “non-political alliance” to the more traditional political parties.

Developing 100 SMART cities is a good move aligned with the philosophy of “co-operative federalism”. But even smarter is letting loose the Big Five Metros (BFM); Mumbai, to rival Singapore as a financial hub; Chennai to rival Hollywood and Chicago rolled into one as an arts and engineering hub; Kolkata to rival Hong Kong as the entre port for Nepal and China; Bangalore to rival Silicon valley and Delhi to rival Washington. The political fall-out of State protests is manageable and can be diluted with grants, to hold state governments harmless. The growth and jobs consequences are positive. The profiling of the Big Five, as public management innovators, can be rewarding. The “soft power” effect of the consequential reforms strategies can make a compelling story for the rest of India.

Change and reform is best implemented when it can be benchmarked nationally. The BFM, sprinkled across the four main regions of India, can show the way on tax reform; “value for money” investment management; responsive service delivery and performance-oriented human resource management- all of which are key constraints today.